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Friday, June 17, 2011

Staring into the abyss

The situation in Greece has shifted in the last few days (admittedly a massive understatement), previously the disagreement between the ECB and Germany over a second Greek bailout was the main threat, but with the IMF now agreeing to release the next tranche of the original Greek bailout funds, the main engine pushing Greece towards an imminent default is now the domestic political chaos.

As we've argued before, EU leaders' gamble on the viability of the eurozone was always two-fold: first, that economic forces could be contained (which we all knew they couldn't) secondly, when a crisis hit, taxpayers and citizens would go along with whatever crisis-solution that EU leaders came up with, be it bailouts, EU-backed austerity measures or closer fiscal union.

On the economics side - as we've argued since the idea of eurozone bail-outs were first being discussed last year, a one-off rescue package for Greece was not going to work. In a paper published in February this year,we argued that:
"Greece’s situation is simply unsustainable. This year, Greece needs to find at least €53 billion just to avoid increasing its already massive debt. Even in a best case scenario and with the help of foreign taxpayers, Greece is set to fall short of these targets. The numbers simply do not add up and some sort of restructuring – or additional help – therefore seems inevitable."
This is where the second big gamble kicks in - how far can you push electorates in both debtor and creditor countries, before something gives in? Media across Europe is now awashed with images from the Greek protests and stories about the political chaos that has hit its governing class with with full force. Like any other gamble, the outcome of EU leaders' bet on social, democratic and political forces being possible to contain is shrouded in uncertainty.

So what about the options on the table? Well, next week, Open Europe will publish a briefing detailing the EU's exposure to Greece (through various channels) and the potential costs and implications of a second bail-out. Again, as we've argued for a longer time than most, a full debt restructuring is emerging as the only viable option.

At the moment, two options are being discussed for involving the private sector in the second bailout, although neither goes far enough and looks unlikely to make any long term difference:
Bond rollover - Offers private bondholders, who hold debt maturing in the next few years, the chance to purchase new longer term debt. This option is backed by the ECB and France since it is completely voluntary and would not be viewed as a default by the rating agencies. The main problem is, why would any bondholders agree to this? It comes down to whether they believe that the EU/IMF will let Greece default if they do not take part. Even if a substantial number of bondholders agreed, it would only relieve the pressure for a short amount of time.

Bond swap - Offer private bondholders the chance to swap out their current bonds for those with longer maturities (7yrs has been discussed). Originally viewed as voluntary but rating agencies have made it clear that this would be judged as a default. Same problem as rollover, why would bondholders commit? Also significant disadvantages from being judged a default (no more ECB liqudity for banks etc).
Although the reversal by the IMF is welcome in the sense that it avoids Greece defaulting in a disorderly manner next week, the underlying problem remains. A second bailout will not solve any of Greece's problems but will merely delay the problem and will mean that when the eventual restructuring happens more debt will be in official hands (EU/IMF/ECB), furthermore it will simply be renewing and extending the massive gambles which the EU took with the original bailout, clearly that lesson has not be learnt.

And the situation is getting tenser. This morning, Swedish Finance Minister Anders Borg - whose country just like the UK and virtually any other economy (apart from perhaps North Korea) will take hits should Greece default - said that the Greek opposition's refusal to enter a national unity government borders on “criminal irresponsibility.”


Anonymous said...

Most of the greek bonds are hold by international / european stakeholders. In Japan most of the bonds are owned by Japanese private persons or institutions. It allows the country to be more independent and less vulnerable vis-à-vis the international financial acteurs.
Why don´t the greek people buy bonds back?

Anonymous said...

The further Britain gets away from the euro and the EU, the better off we will be.

Martin Cole said...

I picked up an unspoken suggestion at the last ECB news conference and blogged about it on Ironies Too that day 9th June:


I am now even more convinced that this may be the way things are going, following the Merkel/Sarlozy press conference of today and other straws in the wind.

One may make a voluntary sacrifice if being rewarded in another apparently disconnected or even secretive manner.

This aspect may be worth considering for your report next week. If true it is yet another dodgy course to purue, as eventually such assets may well be deemed by a future Greek government to have been improperly obtained.

Anonymous said...

The astonishing colossal house of cards and its props are creaking showing its inherent instability, and it deserves to fall. It not a matter of if but when...

Bill Halson said...

A year before the Euro went 'live', I was taking part in a conference of French CEO's (PDG's)as we cruised up the Seine in a hired Bateau Mouche. As the only Brit, I was asked if I thought the UK would join. I said 'No'. Citing as one reason our use of interest rates as a key economic tool. I asked them what they would do if the Euro failed. One character said: "Nous aurons une revolution - c'est notre facon" He was not being entirely ironic. We must wait and see whether some kind of revolution does occur!